* ECB's stance on its Greek debt holdings very important
By Marius Zaharia
LONDON, Feb 3 (Reuters) - Investors known for snapping up distressed debt on the cheap have identified Portugal as their next target but some of these so-called "vultures" say they will wait until a Greek bond swap deal is completed before striking .
Many traditional bond investors, such as funds that follow ratings benchmarks, were forced to sell Portuguese debt after it was downgraded to "junk" by Standard & Poor's last month.
Others, including some banks, simply fled the volatile market fearing a debt restructuring or under pressure from their shareholders to cut losses on their Portuguese debt holdings, sending the country's bond yields to euro-era highs.
That left the door open to a specialised type of investors, often called "vultures" or "vampires", who look to buy bonds when prices hit bottom, hoping to profit when the issuer tries to reach a deal to restructure the debt.
But funds known to have invested in distressed debt markets in the past say the time is not yet right to buy Portugal.
Greece's efforts to sway its creditors to take long-term losses of about 70 percent on their debt are taking some of the focus off Portugal, they say, but once a deal is reached, they expect the market to look at the euro zone's next weakest link.
"As (the Greek deal) works through, investors will probably focus on some of these other countries and Portugal was always going to be the next in line," said Stuart Culverhouse, chief economist at Exotix, a frontier market investment banking boutique specialised in illiquid and distressed assets.
"If it continues to weaken ... that is likely to throw more opportunities for our traditional business," said Culverhouse, whose firm has been active in the Greek market.
If Greece does not reach a deal in time to avoid a messy default, a euro zone break-up will become increasingly likely and Portuguese bonds would then bottom at even lower levels.
"I think people's general view is that we are still focused on Greece," a hedge fund executive familiar with distressed debt investing said. "If they don't come to a reasonable agreement on Greece then Portugal is in trouble."
Long-term Portuguese bonds trade at less than half their face value, but those maturing in about two years trade at more than 70 cents in the euro. Prices across the maturity spectrum usually converge when markets are pricing in a default.
Greece's debt prices began to converge in July, when talk of a debt restructuring stopped being taboo for euro zone officials. Some market players say Portuguese debt prices may soon also begin to converge.
Serge Umanski, co-founder of Signet, a fund of hedge funds overseeing assets worth $1.4 billion, said Portugal would probably proceed to restructure its debt by the end of the European summer and that under the deal investors would probably recover 50-60 percent of the initial value of the bonds.
That was better than in Greece, because the Portuguese economy was "in a better shape".
Some of the Portuguese bond prices already reflected that scenario, Umanski said, adding he was not trading Portuguese debt at the moment However, his fund - which participated in debt restructurings in Russia and Argentina - was advising other funds that might be interested in doing so.
Building a strategy based on the view that Portuguese bond prices are yet to trough before a Greek deal is cemented comes with some risks.
If the European Central Bank agreed to write down some of its Greek debt, investors would be relieved not to be bearing the entire burden of reducing euro zone debts and this could trigger a rally in Portuguese bond prices.
Since the ECB is not allowed to finance governments, some may think that unlikely. But those investors used to jumping on risky opportunities are wary of that possibility.
"They did not buy those bonds at face value ... so (taking losses) sounds like a reasonable move," Signet's Umanski said.